US Current Account Deficit

The US current account deficit for 2007 looks like a Fantasy Factory horror movie - it could well be around $680bn. That's a little less than last year's $700bn but still represents around 6.5% of US GDP. That's really an unsustainable level in the long term - most economists might argue that up to 3% is probably okay.

What's really worrying is that this is the figure about six months AFTER a major fall in the value of the US dollar - we would be expecting the J-Curve effect to have worked its way through by now - and exports to be rising and imports falling - so what's gone wrong.

Oil is the answer. The US now imports most of its oil and the price of this has risen to about $95 a barrel. This is a good example of a long-term Marshall-Lerner condition. This states that the trade balance will not improve if the sum of the price elasticities of exports and imports is less than one. The problem the US has over its oil imports is that the PED is VERY inelastic - you just try dragging an American out of his car and making him walk.

What's the solution to this? Well, another devaluation probably won't help - although it may well come as people continue to lose confidence in the US economy; a long-term drive towards alternative energy might help a little; but the real solution will be more investment in supply-side policies. This probably means that labour costs in the US must fall further in the short-term. Increased immigration from Mexico might help in this respect. This would be a very sensible economic platform for a candidate to stand by in the coming presidential election :>